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Non-Depository Financial Institutions
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Non-depository Institutions
■ Insurance Companies
■ Securities Firms
❑ Brokerage firms
❑ Investment banks
❑ Mutual fund companies
■ Finance Companies
■ Government Sponsored Enterprises
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Insurance Companies
■ Insurance companies began hundreds of

years ago with long sea voyages
■ The most famous insurance company,
Lloyd’s of London, was established in 1688
❑ Besides insuring traditional assets like
airplane and ships, it also insures
singers’ voices, pianists’ fingers and
even food critics’ taste buds
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Insurance Companies
■ Underwriting process refers to the risk

assessment and loss reimbursement
guarantee by the individual risk experts of the
relevant field joining together to form a
syndicate.
■ When an insurance contract is offered, these
syndicates sign up for a certain portion of the
risk in return for a portion of the risk
premiums
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Insurance Companies
■ Insurance process
❑ Insurance companies accept premiums in
exchange for the promise of compensation if
certain event occurs
■ A home owner pays premium in return for the promise
that if the house burns down, the insurance company
will pay to rebuild it
❑ So for individuals, insurance is way for
transferring the risk
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Insurance Companies
■ In terms of financial system as a whole,

insurance companies:
❑ Pool small policies and make large investments
❑ Diversify risks across a large population
❑ Screen and monitor policyholders to mitigate the
problem of asymmetric information
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Insurance Companies
■ Two Types of Insurance Company:

❑ life insurance
❑ property and casualty insurance
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Insurance Companies
■ Type of Life insurance
❑ Term life insurance
■ which makes a payment to the insured’s beneficiaries
upon the death of the insured
■ Group insurance is obtained through employers
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Insurance Companies
❑ Whole life insurance

■ Combination of term life insurance and a savings
account
■ A payment of a fixed premium over lifetime in return for a
fixed benefit in case of death of policy holder
■ The cash value can be refunded if the policyholder
decides to discontinue the policy
■ Over the years, the emphasis shifts from insurance to
savings
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Insurance Companies
■ Property and casualty Insurance

❑ Auto insurance is a combination of property
insurance on the car and casualty insurance on
the driver
❑ The policyholder pays premium in exchange for
protection
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Insurance Companies
■ Balance sheet
❑ Liabilities
■ Promises to policyholders
❑ Assets
■ Combination of bonds and stocks
■ Short term money market instruments (in case of
property and casualty insurance)
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Insurance Companies
■ The Role of Insurance Companies:

❑ Insurance companies pool risk to generate
predictable payouts
❑ Adverse selection and moral hazard create
problems in the insurance market that are worse
than those in the stock and bond markets
■ Cancer Patients/thalassemia patients
■ Fire Insurance
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Insurance Companies
❑ To deal with this, insurance companies carefully

screen applicants before issuing them policies
■ Medical Examination
■ Driving Records
❑ Policies may also include restrictive covenants in
order to reduce moral hazard
■ Fire extinguishing system and training
■ careful
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Insurance Companies
■ The future of insurance must be considered

in the light of advances in medical
technology, particularly with regard to the
decoding of the human genome.
■ In the future, people with inherited tendencies
toward certain diseases may not be able to
get insurance
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What Is Takaful?
■ Takaful is a type of Islamic insurance wherein

members contribute money into a
pool system to guarantee each other against
loss or damage.
■ Takaful-branded insurance is based on sharia
or Islamic religious law, which explains how
individuals are responsible to cooperate and
protect one another.
■ Takaful policies cover health, life, and general
insurance needs.
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■ Each participant's contribution is based on
the type of coverage they require and their
personal circumstances.
■ A takaful contract specifies the nature of the
risk and the length of the coverage, similar to
that of a conventional insurance policy.
■ riba (interest), al-maisir (gambling), and al-
gharar (uncertainty) principles—all of which
are outlawed in sharia.
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Securities Firms
■ The broad class of securities firms include

brokerages, investment banks, and mutual
fund companies.
■ In one way or another, these are all financial
intermediaries
■ The primary services of brokerage firms are
accounting and the provision of access to
secondary markets.
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Securities Firms
■ They also provide loans to customers who

wish to purchase stock on margin, and they
provide liquidity by offering check-writing
privileges and by allowing investors to sell
assets quickly
■ All securities firms are very much in the
business of producing information; but this is
truly at the heart of the investment banking
business
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Securities Firms
■ Investment banks are the conduits through

which firms raise funds in the capital markets
■ Through their underwriting services,
investment banks issue new stocks and a
variety of other debt instruments
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Securities Firms
■ In underwriting, the investment bank guarantees
the price of a new issue and then sells it to
investors at a higher price;
❑ However, this is not without risk, since the selling price
may not in fact be higher than the price guaranteed to
the firm issuing the security
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Securities Firms
■ Information and reputation are central to the

underwriting business;
❑ underwriters collect information to determine the
price of the new securities and then put their
reputations on the line when they go out to sell
the issues
■ In addition to underwriting, investment banks
provide advice to firms that wish to merge
with or acquire other firms, for which advice
they are paid a fee
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Mutual funds
■ 1824
■ A mutual. fund is a pool of money managed
by a professional money manager.
■ The objective and the risk level are outlined
in a document called a prospectus. The
prospectus provides detailed guidelines for
the types of investments the manager can
purchase.
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Mutual funds
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Benefits of Mutual Funds
1. Liquidity intermediation
2. Denomination intermediation
3. Diversification
4. Cost advantages
5. Managerial expertise
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Finance Companies/venture capital
firms
■ Finance companies raise funds in the
financial markets by issuing commercial
paper and securities and use the funds to
make loans to individuals and corporations
■ These companies are largely concerned with
reducing the transactions and information
costs that are associated with intermediated
finance
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Finance Companies
■ Most finance companies specialize in one of

three loan types:
❑ consumer loans,
❑ business loans,
❑ sales loans (for example, the financing for a
consumer to purchase a large-ticket item like an
appliance).
❑ Some also provide commercial and home
mortgages
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Finance Companies
■ Business finance companies provide loans to

businesses, for equipment leasing
■ Business finance companies also provide
short-term liquidity to firms by offering
❑ inventory loans (so that firms can keep the
shelves stocked)
❑ accounts receivable loans (which provide
immediate resources against anticipated revenue
streams)
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Government-Sponsored Enterprises
■ The government is directly involved in the financial
intermediation system through loan guarantees
and in the chartering of financial institutions to
provide specific types of financing
❑ Zarai Taraqiati Bank Limited (ZTBL)
❑ Small and Medium Enterprise (SME) Bank
❑ House Building Finance Corporation (HBFC)
❑ Khushhali Bank
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Financial Conglomerates
■ Own and operate several different types of
financial intermediaries and institutions
■ Alleged advantages of forming financial
conglomerates include taking advantage of
❑ Economies of scale - gains from size that may result
from several firms
■ Streamline management
■ Eliminate duplication of effort of several separate firms
❑ Economies of scope
■ Advantages to firms being able to offer customers several
financial services under one roof
❑ Diversification
■ Branching out of financial conglomerates into several product
lines
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Slide 30
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2-32
2-33
Types of Pension Plans
■ Contributory Plans
❑ Both employee and employer contribute
■ Noncontributory Plans
❑ Only the employer contributes
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Slide 34
■ Public Pension Plans

❑ Can be sponsored publicly (governmental units)
❑ Govt. retirement plan assets
❑ One-third assets managed by public pension
plans sponsored by:
■ State and local government employees
■ Federal civilian employees
■ Railroad retirement
■ Social Security’s Old-Age, Survivor and Disability
Insurance program
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Slide 35
■ Private Pension Plans

❑ Sponsored by single corporation, union, small
business or individual
❑ Two-thirds of all pension assets sponsored and
managed by:
■ Private pension funds
■ Mutual funds
■ Banks
■ Brokerage firms
■ Life insurers
2-36
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Non-Depository Financial Institutions

■ Insurance companies began hundreds of

■ Underwriting process refers to the risk

■ In terms of financial system as a whole,

■ Two Types of Insurance Company:

❑ Whole life insurance

■ Property and casualty Insurance

■ The Role of Insurance Companies:

❑ To deal with this, insurance companies carefully

■ The future of insurance must be considered

■ Takaful is a type of Islamic insurance wherein

■ The broad class of securities firms include

■ They also provide loans to customers who

■ Investment banks are the conduits through

■ Information and reputation are central to the

■ Most finance companies specialize in one of

■ Business finance companies provide loans to

■ Public Pension Plans

■ Private Pension Plans

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